By Mathew Maavak
Opponents of the Korea-U.S. Free Trade Agreement tend to find a direct correlation between the financial collapse that beset Mexico and its entry into the North American Free Trade Agreement on Jan 1, 1994.
When the NAFTA agreement was signed, Mexico was experiencing rapid economic growth, low inflation and unprecedented levels of prosperity. Its fundamentals were however weak.
The Mexican peso at the time was overvalued by 15-20 percent and the outgoing government went on a prodigious spending splurge that snowballed into a historically high deficit amounting to 7 percent of the GDP.
To keep the bubble expanding, the Mexican government issued the Tesobonos short-term bonds which insured payment in dollars, instead of raising interest rates to tighten the peso's monetary base.
These underlying weaknesses were compounded by lax banking practices, political instability and graft.
When the situation became unsustainable, the tesobonos were rapidly sold off, precipitating a currency crisis that spread through South America. This was known as the Tequilla Effect. Hyper-inflation, massive job losses and rioting rocked the region.
The U.S. government stepped in immediately to buy up the Mexican peso, and later its oil revenues were used to underwrite U.S. loan guarrantees.
An aid package was arranged in January 1995 that offered longer-term dollar bonds to foreign holders of Tesobonos, amounting to $17 billion.
Though Mexico and the rest of South America recovered, much of its wealth was recovered at a painfully measured rate. East Asia and South Korea did not grasp lessons from the Tequilla Effect in time, and in 1997, a similar currency crisis ravaged the entire region.
Thus, Mexico's problems had more to do with its vulnerable financial underbelly than with NAFTA per se. Korean financial fundamentals have been scrutinized and strenghtened since the disaster of 1997 and despite this, all loose screws need be tightened before the ink is applied on the final draft of a free trade agreement.
Published in The Korea Herald on June 12, 2006
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